By: Poetry and Starry Sky

ID: SingingUnderStars

In 2023, BYD's revenue exceeded 600 billion yuan; in the first half of 2024, BYD's revenue exceeded 300 billion yuan. Considering that the peak car-buying season usually falls in the second half of the year, it's no surprise that 2024 will significantly surpass 2023.

However, the most daunting figure in BYD's financial reports is not revenue, but rather "cash paid for acquisition of fixed assets, intangible assets, and other long-term assets," a line item on the cash flow statement that represents actual expenditures (excluding unpaid items) for the purchase of factories, equipment, land, and other assets during the current period.

In 2023, BYD spent over 120 billion yuan on acquiring fixed assets, intangible assets, and other long-term assets. When combined with unpaid items, it is reasonable to conservatively estimate that BYD's total expenditures for factories, equipment, land, and other assets exceeded 150 billion yuan in 2023.

What does this mean?

Tesla's Shanghai Gigafactory Phase 1 investment was 50 billion yuan, spread over three years.

This translates to BYD building three Teslas in one year.

However, in the 2024 half-year report, BYD's cash paid for acquisition of fixed assets, intangible assets, and other long-term assets declined to 47.2 billion yuan, a decrease of 16 billion yuan from the 66 billion yuan in the same period of 2023.

This indicates that BYD's expansion has begun to slow down (albeit not significantly).

Today, however, our focus is not on BYD's expansion but rather on a crucial financial indicator: free cash flow.

01

What is Free Cash Flow

To start, free cash flow refers to the cash available for discretionary use after deducting capital expenditures and taxes required to maintain existing operations from operating cash flows.

Companies can use this cash to fund growth, pay dividends to shareholders, repay debts, or set aside for economic downturns. Unlike earnings or net income, free cash flow is a measure of profitability that excludes non-cash expenses from the income statement, including equipment and asset expenses and changes in working capital. In summary, free cash flow represents the amount of cash a company can freely use without affecting its operations and serves as an indicator of financial flexibility.

Put simply, it's the cash that can be withdrawn without impacting the company's operations. The higher the free cash flow, the more "spare money" a company has and the stronger its ability to withstand risks.

Let's look at the formula for calculating free cash flow:

Free Cash Flow = Net Income After Tax + Depreciation & Amortization - Capital Expenditures - Increase in Working Capital

The meanings of each indicator are as follows:

1. Net Income After Tax: The net profit remaining after corporate income tax is paid.

2. Depreciation & Amortization: The total depreciation of fixed assets and amortization of intangible assets.

3. Capital Expenditures: Funds spent by the company to acquire or upgrade fixed assets during the period.

4. Increase in Working Capital: The total change in the company's current assets and liabilities, such as cash, inventories, accounts receivable, and accounts payable, during the period.

This formula can be cumbersome for investors to calculate, and relying solely on revenue and net income can be insufficient.

So, what's the solution?

Here's a tip from Starry Sky: Simplify free cash flow calculations.

02

Simplified Free Cash Flow

Net operating cash flow minus investment cash outflows for the acquisition of fixed assets and construction in progress approximately equals free cash flow and can serve as an effective proxy.

While this formula wouldn't score well on a CPA exam, it significantly reduces the learning curve for investors analyzing the operational quality of listed companies, achieving similar results.

As shown in the image, these two indicators are basic cash flow statement metrics. A simple subtraction yields the result.

Data Source: ifind; Chart: Poetry and Starry Sky

Expanding our timeline to a decade, we observe that BYD's free cash flow experienced a "sudden takeoff" in 2020. Prior to that, the company's free cash flow was negative.

Companies with consistently negative free cash flow are generally considered uninvestable.

However, BYD is clearly an exception.

This raises another question: How can we avoid a mechanical understanding of financial indicators?

It's crucial to integrate them with a company's operational context.

In 2020, BYD launched the Han, marking the company's takeoff after years of accumulation.

Led by the Han, 2020 was a transformative year for BYD in terms of market value, revenue, and net income.

While I had been bullish on the new energy vehicle (NEV) industry since 2019, I didn't anticipate its explosive growth in 2020. Since then, NEVs have demonstrated a decisive competitive advantage over traditional fuel vehicles.

03

Insights from the Half-Year Cash Flow Statement

Generally, I don't recommend investors analyze cash flow statements from quarterly or half-yearly reports. On the one hand, these reports are unaudited, and cash flow statements may be less rigorously prepared. On the other hand, due to payment cycles, most companies receive significant payments at the end of the year, making cash flows in quarterly and half-yearly reports less comparable.

However, the half-year cash flow statement can still provide valuable insights when compared with the same period in previous years.

Take BYD's 2024 half-year report as an example.

Its simplified free cash flow looks like this:

Data Source: ifind; Chart: Poetry and Starry Sky

A significant negative number appears!

Is BYD facing operational issues?

To understand this, we must delve into the reasons behind the large negative number. BYD's net operating cash flow was only 14.1 billion yuan, primarily due to a whopping 217.5 billion yuan in cash outflows for purchases of goods and services.

This suggests that BYD is procuring raw materials on a massive scale, as evidenced by the company's inventory balance increasing to an unprecedented 112.8 billion yuan on its balance sheet.

It appears that BYD is poised to shake up the automotive market in the second half of the year.

Unlike other automakers, BYD's gross margin surged to 20% amidst its sales explosion, a 2-percentage-point increase from the same period last year.

While past analyses may have questioned BYD's operational quality compared to Toyota, such data is no longer relevant.

This is the charm of industrial upgrading.

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Disclaimer: This article is based on publicly available information disclosed by listed companies in accordance with legal requirements (including but not limited to interim announcements, periodic reports, and official interactive platforms). Poetry and Starry Sky strive for fairness and accuracy in the content and viewpoints presented, but cannot guarantee their timeliness or completeness. The information or opinions expressed herein do not constitute investment advice, and Poetry and Starry Sky assumes no responsibility for any actions taken based on this article.

Copyright Notice: The content of this article is originally created by Poetry and Starry Sky and may not be reproduced without authorization.